Following Passage of State Income Taxes, Size of Government Increases

Americans for Tax Reform conducted research to see if the introduction of a state income tax leads to bigger state government. The most recent states to impose an income tax since 1967 are: Michigan, Nebraska, Connecticut, Illinois, Maine, Ohio, Pennsylvania, Rhode Island, and New Jersey. Looking at the 10 years before and the 10 years after implementation of a state income tax, we compared the size of state government (measured as state spending as a percentage of Gross State Product). The source of state spending and tax rate information is derived from the U.S. Census Bureau and Gross State Product figures are derived from the Bureau of Economic Analysis, Samuel H. Williamson, "The Annual Real and Nominal GDP for the United States, 1790 - 2013," and compilation at usgovernmentspending.com. The numbers show that the size of state government grew significantly faster in 10 years after imposition of the income tax than in the previous decade.

The size of government grew 4.64 percent faster on average in the decade after these states imposed an income tax. State spending on average was 4.78 percent of GSP 10 years prior, 5.99 percent on average at the time of income tax implementation, and 7.25 percent 10 years after.

Sans New Jersey, which is an aberration, the size of government grew 59.2 percent faster on average in the 10 years after income tax imposition compared to 10 years prior income tax. On average, government was 5.04 percent of GSP 10 years before the income tax, 5.92 percent at time of income tax implementation, and 7.33 percent 10 years after imposition.

Additionally, five of these nine states introduced a corporate income tax the same year: Michigan, Nebraska, Illinois, Maine and Ohio. Not surprisingly they saw the largest average growth in size of government.

Most of the states increased their tax rates 10 years after the income tax was introduced. This trend is similar to what was seen following passage of the federal income tax. The top tax bracket originally was 7 percent in 1913, swelled to 94 percent in the mid 1940s and currently sits at 39.1 percent.

Comparing spending in states with an income tax to those without, state spending per-resident was 49 percent greater in 2012 in states with an income tax. Average spending per resident was $2,491 in states without an income tax, while spending reached $3,702 per-resident in states with an income tax.

New Jersey, an aberration, introduced its income tax in 1976, at the end of the 1973-75 recession. The recession caused an additional increase in government spending followed by a temporary slowdown at the recession’s end by most states; New Jersey was no different. 10 years prior to passage of its income tax in 1966, New Jersey implemented a sales tax and witnessed a boom in tax revenue- increasing 125% (adjusted for inflation) to 826 million in 1976, paralleling New Jersey’s 138% increase in the size of state government. Unlike New Jersey, none of the other states introduced a sales or corporate tax in the ten years prior to the income tax.

In conclusion, size of these state governments grew at a greater rate following the institution of a state income tax. Additionally, once in place, these tax rates also tend to rise over time. When a new source of revenue is introduced, it is often abused by state spending addicts and only pumps into government faster. As Milton Friedman stated best, "Politicians will always spend every penny of tax raised and whatever else they can get away with."